Egypt's bourse: Much ado about nothing?

With Egypt's stock market closed for seven weeks now, financial analysts are divided over the bourse's role in the country's economy

The spirit of the revolution inspired an idea that spread via Twitter and SMS: "Save your country by investing LE100 in the stock market to save our economy."
Young Egyptians, conscious of the dire effects of a possible stock market crash, are encouraging people not to not pull out of the market unnecessarily, and to invest as little as LE100 ($17).
Authorities closed the stock market on 30 January due to “cowardly” capital flight three days after the eruption of Egypt's January 25 Revolution. That day saw a 16 per cent drop in the stock market (a loss of around LE70bn, or $12bn).
Officials, as well as economic experts, sounded the alarm bell from the very first day of the revolution claiming that the ongoing protests would trigger the collapse of the economy and the bourse, Egypt's stock exchange.
But since then, there has been much debate among economic analysts and commentators between those who think the bourse's meltdown means a collapse in the economy and others who believe the Egyptian stock exchange can never be taken that seriously. For them, it's a scarecrow used to split the revolutionary forces, wreck the strike andput down the revolution.
However, “investing money in the stock market will not save the Egyptian economy,” Wael Gamal, senior business reporter and author, counters.
Even the basis of a healthy stock market, such as transparency, is lacking in Egypt's version, which has led to its overvaluation. Gamal thinks Egypt's stock market is still underdeveloped and its role in the economy is being highly exaggerated by the media “I believe these alarms were just ascarecrow, a counter-revolution to get people to stop protesting.”
Maged Shawqi, former chairman of Egypt's bourse says conversely: “I think that a market with total capitalization accounting for 50-60 per cent of the total GDP, that lists the largest Egyptian companies is quite significant.”
With a total of 179 stocks listed on the Egyptian exchange in early 2010 and another 27 trading over-the-counter by January 2011, the bourse's total market cap reached $67bn.
The market capitalisation of the Egyptian stock exchange has grown significantly through the past few years, reaching $93.7bn (LE534bn) by the end of 2006, even peaking at 100 per cent by 2007.
“A high market capitalization to GDP ratio is never a good signal,” says Gamal. “The whole world has recognized the dangerous of overvaluation of stock market causing what's known as stock bubbles.”
In 2000,according to statistics atthe World Bankthe market cap to GDP ratiofor the US was153 per cent,a sign of an overvalued market. With the U.S. marketfalling sharplyafter thedotcom bubble burst, this ratio may have some predictive value in signaling peaks in the market. However, in 2003 the ratio was around 130 per cent, which was still overvalued but themarket wenton to produce all-time highs over the next few years.
“That's not all: you also have so many people employed in the stock authority, securities and brokerage companies in addition to small investors whose interests are halted by the bourse's suspension,” adds Shawqi. “The bourse is actually one of the main pillars of the Egyptian economy as it helps boost companies' capital and, thus, flourish.”
Dozens of investors have protested outside the bourse in Cairo in the past two weeks, demanding the trades in the devastating last two sessions during the revolution be cancelled. They also said trading should be suspended in companies with executives linked to Mubarak or his former ruling party, such as Ezz Steel, the country's biggest steel producer.
“If you're in a time of crisis, the interests of the majority should outweigh those of any sector,” Gamal said, refuting the idea. “Also, the government can establish a fund to help employees.”
Not everybody agrees with this assessment.
Individual investors have, since 1 March, staged counter-protests at the bourse's building demanding the reopening of the bourse.
“The market needs to open very soon,” one of these protesting investors told Ahram Online. “A small investor, like myself, faces a serious situation now because I'm borrowing money from a brokerage company to buy stocks on margin. How am I going to repay the money?”
The fears of the small investors reflect, if anything, the vulnerability of the stock market.
Gamal Wagdy, economics commentatoratAl-Ahram, clarifies that those who are complaining that the Egyptian stock market faces a crash and that it would bring the economy down are simply “speculators, not investors, which is very dangerous for the economy.”
“I really wonder whether pumping new funds into the bourse is really the best method to support it?” asks Wagdy.
In an article printed in Al-Ahram on 1 March entitled “The Economy is not the bourse and the bourse isn't the economy”, Wagdy wrote: “We can't take the performance of the Egyptian stock in its current status as an indicator of the economy as a whole, there's a huge gap between the performance of the real economy and that of the financial one. The Egyptian stock exchange is never a mirror to the real economy, as it mostly follows activities of speculators who only aim at making profits based on irrational trade decisions which usually cause bubbles dangerous to the economy.”
A stock bubbles occur when market participants drive stock prices above their value in relation to a stock valuation system. That overvaluation might lead to disastrous consequences, such as "The Chinese Correction" of 2007.
Rumours spread during the Chinese crisis that their economic ministry was going to raise interest rates in an attempt to curb inflation and that they planned to clamp down on speculative trading with borrowed money. Consequently, the SSE Composite Index of the Shanghai Stock Exchange tumbled 9 per cent - the largest drop in ten years. As a result, many small investors went bankrupt, which led to a global stock market plunge on 27 February 2007, wiping out hundreds of billions of market value.
“While it might be true that Egypt's stock market isn't that big or strong compared to other stock markets in the world,” says Doha Abdul Hamid, professor of finance at the Canadian University in Cairo, “bourse instability after seven weeks of closure is a strong indicator for foreign investors that this place is risky and unstable.”
Abdul Hamid's point is backed up by the fact that when the revolution broke, a number of foreigninvestors dropped their investments in the Egyptian economy.
“There's an immediate need for the exchange to open because of the risk of tarnishing Egypt's reputation as an investment destination,” adds Abdul Hamid. “Also, we always say the stock exchange is the mirror of the economy, and if that mirror is blocked then the whole investment environment internationally, as well as locally, remains cloudy and blinds investors from [seeing crucial information].”
“Stock closure is not simple, because stock trading activity may reflect economic conditions. Expansion fuels production, which can lead to greater profits and benefits for stockholders from rising stock prices or through company dividends,” adds Abdul Hamid.
Wagdy, on the other hand, believes that bourse swings do not reflect the status of institutions of goods and services production.
“The overall economic performance can only be addressed by investigating the efficiency of companies producing real services and goods,” he adds. “So, if we're talking about mobilizing people to help the economy, then they should support real economic institutions and not financial bodies, especially as losses in the exchange are just virtual, which is very misleading.”
“It might be true that the stock market plays a crucial role in supporting a company's performance, but it's also true that aware investors are not that shallow: they do study real market indicators and are not going to flee because of temporary political events,” says Gamal in agreement. ''For instance, Naguib Sawiris, a leading business tycoon, has invested in North Korea despite the uncertainty and the risky political situation and despite the fact the Korea doesn't even have a bourse.”
The same theory, according to Gamal, applies to foreign investors. If they invest in the virtual economy (i.e. the stock market), it's actually better and much healthier for our economy that they invest in real production and real companies, instead.
“I will be blunt: but if the stock is the mirror of the economy, then which is more critical? To fix the mirror, or to fix the economy?”